Computer implemented and/or assisted methods and systems for detecting, tracking and responding to toxic, or likely toxic, orders in an equities order flow using toxicity and /or profit anlyzers

ABSTRACT

Methods and systems are provided which enable equities broker-dealers to execute an equity trade order while simultaneously eliminating (or at least reducing) exposure to the negative consequences associated with toxic (or likely toxic) orders in the equities market. By using toxicity and/or profit analyzers, for example, to detect, track and respond to the level of toxic (or likely toxic) orders present in an equities order flow, a broker dealer can reduce the level of risk inherent in serving as counter-party to order flows, such as anonymous equities order flows. Various alternative embodiments are also disclosed.

CROSS-REFERENCE TO RELATED APPLICATION

This application claims priority to U.S. Provisional Patent ApplicationNo. 60/619,997, filed Oct. 19, 2004, which is hereby incorporated byreference herein in its entirety.

FIELD OF THE INVENTION

The present invention relates to computer implemented and/or assistedmethods and systems for the trading of securities, such as equities.More particularly, this invention relates to computer implementedmethods and systems that use toxicity and/or profit analyzers fordetecting, tracking and/or responding to purchase and/or sell orders ofa variety of securities, such as equities, that are likely to be, or arein fact, “toxic.”

BACKGROUND OF THE INVENTION

There are several important players in the U.S. securities market,including investors, full-service broker-dealers, retail broker-dealersthat do not execute their own orders but rather route their order flowto other broker-dealers for execution (also referred to herein as orderflow providers, or OFPs), broker-dealers that consolidate order flowfrom multiple OFPs (also referred to herein as wholesalers, orconsolidating broker-dealers), and market-makers. It will be understoodthat, as used herein, the term “broker-dealer” refers to any entitythat, when acting as a broker, executes orders on behalf of his client,and that executes trades for his firm's own account when acting as adealer.

Generally speaking, investors drive the market by entering orders to buyor sell one or more securities. An investor may be, for example, anindividual or an institution, such as a mutual fund or a corporation.The OFPs in the market aggregate investor buy/sell orders, and deliverthese orders to one or more consolidating broker-dealers (acting aswholesalers) or to market making firms.

In order to provide liquidity in the market, one or more dealers agreeto maintain firm bid and ask prices in one or more specific securities.These dealers, which are commonly referred to as “market-makers,”display bid and offer prices for these specific securities, and if theseprices are met, will immediately buy for or sell from their ownaccounts. For example, almost every market (e.g., exchange, whetherphysical or virtual) where securities are traded has some form ofmarket-maker that enters continuous two-sided quotations.

It is common for one or more market-makers on a given market to beprovided significant responsibilities, including overseeing the opening,providing continuous quotations in all of their assigned securities, andhandling customer orders that are not automatically executed inconnection with that exchange. In the case of the U.S. equities andoptions exchanges, these market-makers, which are responsible formaintaining fair and orderly markets, are generally termed“specialists.” Depending on the particular exchange, the “specialist”may be referred to as, for example, a designated primary market-maker(DPM), lead market-maker (LMM), or primary market-maker (PMM), etc.Other market-makers in the crowd on an exchange floor, if any, arereferred to as “floor market-makers.” For U.S. listed equities (e.g.,stocks listed on the American Stock Exchange (AMEX) or the New YorkStock Exchange (NYSE)), there are also firms that make markets off theexchange floor, and these firms are known as “over-the-counter” (OTC)market-makers or third market-makers.

Over the last half-century, the U.S. equities market has evolved intothe widely accessible, efficient market we know today. Thistransformation has been driven, in part, by the demands of both retailand institutional investors for high quality and efficient tradeexecution.

Moreover, pricing efficiency in the U.S. equities market has benefitedfrom various regulations that have been set forth by the Securities andExchange Commission (SEC), the various securities exchanges, and theNational Association of Securities Dealers (NASD), which is aself-regulatory organization (SRO) responsible for the operation andregulation of NASDAQ and over-the-counter markets. For example, abroker-dealer or market-maker must seek to obtain “best execution” (withorder pricing being a significant factor) when handling a customer'sequities order. In addition, there is a prohibition (subject toexceptions) in the listed equities markets against the practice of“trading-through,” in which a customer's order for an exchange listedequity is executed at a price inferior to the best available bid oroffer. This trade-through prohibition does not apply, however, to NASDAQlisted equities. Moreover, under the SEC's “firm quote” rule, which isalso subject to exceptions, a broker-dealer or market-maker is requiredto execute any equities order presented to it to buy or sell a securityat a price at least as favorable to the buyer or seller as its publishedbid or offer, up to its published quotation size. These and otherrequirements help to ensure a relatively transparent equities market.

Existing SEC rules require all equity market centers (e.g., exchangesand broker-dealers acting as market-makers) to report data regarding theexecution quality (e.g., speed, effective spread, trade-throughs) oftheir trades. These rules allow investors and broker-dealers to identifyand avoid those market centers with a record of poor execution quality,in favor of those with better execution quality histories. In somecircumstances, the broker-dealer community as a whole may seek to reduce(or completely eliminate) its exposure to a particular exchange, tradingsystem, or market-maker in response to consistent execution of lowquality (e.g., slow or mis-priced) trades by that market center. In suchcases, even at times when that market center has a quote representingthe “national-best-bid-or-offer” (NBBO), the other broker-dealers in thecommunity may choose to internalize their trades (see below), ifpossible, or to route their orders to another venue.

FIG. 1 is a simplified illustration of one example of an order flow inthe U.S. equities market. In general, as shown, investor 110 submits anorder to buy or sell an equity (or equities) to OFP 120, which submitsthat order to wholesaler, or consolidating broker-dealer 130. In turn,consolidating broker-dealer 130 either internalizes the order (asexplained below) or takes the order to an appropriate exchange ofequities market 140 for execution. Equities market 140 shown in FIG. 1may include, for example, the AMEX, the NYSE, NASDAQ (formerly referredto as the National Association of Securities Dealers Automated Quotationsystem), one or more electronic communications networks (ECNs), and oneor more third market-makers. In equities market 140, publicly tradedequities listed on one exchange can be traded, for example, on one ormore regional stock exchanges (not shown), certain ECNs, and NASDAQ'sSuperMontage system. It should also be noted that, with regard to NASDAQ(which is a competing dealer system and is currently not considered an“exchange”), consolidating broker-dealers can route orders in NASDAQsecurities to NASDAQ's SuperMontage system, the NASD's AlternativeDisplay Facility, ECNs, or specific NASDAQ market making firms.

In terms of fees associated with the order flow shown in FIG. 1,investor 110 pays OFP 120 a commission for executing his trade, whileconsolidating broker-dealer 130 pays OFP 120 for providing a givenvolume of order flow. The profit for consolidating broker-dealer 130,when internalizing the trade (as explained below), is made at the levelof the trade execution, and is based on the spread between bid and offerprices for the equity (or equities) being bought or sold by investor110. If consolidating broker-dealer 130 routes the order (e.g., to anexchange) for execution by another entity, however, consolidatingbroker-dealer 130 may receive some form of payment for the order flow(e.g., depending on the exchange that the order was routed to). Whenconsolidating broker-dealer 130 is a full-service broker-dealer, forexample, orders from investor 110 may be sent directly to consolidatingbroker-dealer 130 (which may then internalize the order or take theorder to an appropriate exchange of equities market 140 for execution).

The concept of “trade execution quality” has emerged as a benchmark forinvestors to compare and contrast brokerage service providers alongseveral dimensions, such as transaction costs, quote certainty,execution speed, price improvement, and market liquidity. In general,the growth of the investor community has placed continual pressure onservice providers to improve execution quality along each of thesedimensions.

The speed with which investor orders are filled in the U.S. equitiesmarket has benefited from the fact that broker-dealers who are OTCmarket-makers in listed equities and/or NASDAQ market-makers have theability to “internalize” trades, in which they fill an order receivedfrom an OFP out of their own inventory in that equity. FIG. 2 is asimplified illustration of one example of an order flow in the U.S.equities market in which an order placed by investor 110 is internalizedby consolidating broker-dealer 130. The ability of consolidatingbroker-dealer 130 to internalize a trade in the equities market affordsit an opportunity to offer investors (such as investor 110) improvedorder execution speed. In addition, internalized orders have been knownto receive some level of price improvement over the NBBO, withbroker-dealers sometimes offering better fill prices to OFPs in exchangefor a guaranteed level of trading volume.

Overall, the competitive landscape in the equities markets, along withthe rapid expansion of internalization, have combined to provideinvestors with better execution quality along the price improvement andexecution speed dimensions. For example, the equities market hasprogressed extremely rapidly over the last several years from ten-secondtrade execution guarantees to more recent guarantees of one-secondexecutions, and at increasingly narrow bid/offer spreads.

With the improvements in execution quality offered by consolidatingbroker-dealers in the equities market, however, has come increased riskto those same broker-dealers of exploitation by professional traders.These professional traders often possess (and seek to profit from)knowledge not available to the general investing public about the trueunderlying value of an equity, as well as where the price of the equitywill (or is likely to) move in the near future. This is in contrast tostandard traders, who are more likely to trade based on purespeculation, publicly available information, and/or liquidity or hedgingneeds, for example, and are less likely to have the informationnecessary to capitalize on “toxic” orders (which generally refers toorders that, if accepted by a consolidating broker-dealer, would resultin no profit, reduced profit and/or a loss to the broker-dealer and/oran affiliate of the broker-dealer). Stated another way, an equity orderis said to be toxic from the standpoint of a consolidating broker-dealerwhen it is asked to supply market liquidity (i.e., to buy or sell) insituations where it makes no profit, reduced profit and/or indeed takesa loss on the trade.

As an example, consider a situation where equity XYZ has a bid price of20 and an offer price of 20.25. If a professional trader has knowledge(e.g., insider information) suggesting that the theoretical fair value(e.g., the value to which the price is likely to move in the nearfuture) of XYZ is 19, generally speaking, he will sell at the price of20, and will not buy at the price of 20.25. Conversely, if the sameprofessional trader has reason to believe that the theoretical fairvalue of XYZ is 21, generally speaking, he will buy at the price 20.25,but will not be willing to sell at the price of 20. A standard trader,by contrast, will generally not have this type of knowledge regardingpresent or future movements in price, and thus, will more likely tradebased on pure speculation, publicly available information, and/orliquidity or hedging needs, for example.

As a consolidating broker-dealer is generally more likely to receivetoxic orders from professional traders than from standard traders, thebroker-dealer will generally be able to earn higher profits (or at worstbreak-even) over time by trading with standard traders. In light ofthis, a consolidating broker-dealer would be willing to pay for theprivilege of trading with standard traders, if it were feasible toidentify them. It would therefore be desirable to provide a method andsystem which would allow a market participant to detect and track thelevel of orders in a given equities order flow that are likely to betoxic, or in fact are, “toxic” versus the orders that are likely to be,or in fact are, “non-toxic.” Moreover, an ideal system would allow themarket participant to respond to the nature of that order flow by, forexample, rewarding a trading party (e.g., an OFP or an investor) forproviding a less “toxic” equities order flow.

SUMMARY OF THE INVENTION

Computer-implemented and/or assisted methods and systems are providedthat use toxicity and/or profit analyzers for detecting, tracking and/orresponding to purchase and/or sell orders of a variety of securities,such as listed equities or equities traded only in the over-the-countermarkets, that are likely to be, or are in fact, “toxic.” By providingmeans, devices and/or processes to detect, track and respond to thelevel of toxic (or likely toxic) orders present in an equities orderflow using, for example, in at least one embodiment of the invention,order toxicity characteristics and/or profit analyzers, these methodsand systems allow for better execution quality for investors, whileeliminating (or at least reducing) the level of broker-dealer riskinherent in serving as a counter-party in equities transactions, such asanonymous equities transactions.

In one embodiment of the invention, a method of executing an equityorder includes the sequential, sequence independent and/ornon-sequential steps of receiving the order by a broker-dealer includingorder characteristics, determining at least one toxicity quotientresponsive to the order characteristics, and analyzing the order todetermine eligibility for execution using the at least one toxicityquotient. If it is determined that the order is eligible for execution,the method includes initiating execution of the order responsive to theeligibility for execution as determined by the analyzing the order usingthe at least one toxicity quotient.

In another embodiment of the invention, a method of executing an equityorder includes the sequential, sequence independent and/ornon-sequential steps of receiving the order by a broker-dealer,initiating execution of the order by the broker-dealer, and monitoringthe outcome of the trade when the order is executed. If it is determinedthat the completed trade is toxic, the method includes implementing acorrective action based at least in part on the step of monitoring theoutcome of the trade.

A method of executing an equity order includes the sequential, sequenceindependent and/or non-sequential steps of receiving the order by abroker-dealer and determining compliance of the order with a rule-set.The rule-set is based at least in part on the measuring of at least oneof order, market condition, and execution parameters of at least oneorder to be executed and correlating the measured parameters with theoutcome of the trade. If it is determined that the order complies withthe rule-set, the method includes initiating execution of the order bythe broker-dealer.

In alternative embodiments, the invention includes a computer systemand/or tangible medium for implementing the method.

In alternative embodiments, the method measures at least one of order,market condition, and execution parameters of at least one order to beexecuted, and correlates the measured parameters with the outcome oftrade to determine the at least one toxicity quotient.

In alternative embodiments, the method reviews one or more parameters ofthe order relating to at least one of size of the order, frequency oforder submission, identity of the equity, market source ofnational-best-bid-or-offer (NBBO), order size relative to NBBO size,liquidity of the equity, current NBBO bid-offer spread, and theequity-market performance correlation of the equity.

In alternative embodiments, the method determines at least one toxicityquotient responsive to the order characteristics and generates the atleast one toxicity quotient by the broker-dealer.

In alternative embodiments, the method receives the at least onetoxicity quotient by the broker-dealer.

In alternative embodiments, the method either rejects the order orexecutes a modified version of the order based on execution eligibility.

In alternative embodiments, the method uses a modified version of theorder that includes a modified order size.

In alternative embodiments, the toxicity quotient is modified followingits generation.

In alternative embodiments, the method receives the order from an orderflow provider, and sends the order from the order flow provider to thebroker-dealer.

In alternative embodiments, the method sends a toxicity report to theorder flow provider based at least in part on the execution eligibilitydetermination.

In alternative embodiments, the method places the order by an investor.In alternative embodiments, the method places the order by an order flowprovider.

In alternative embodiments, the method monitors the outcome of the tradewhen the order is executed.

In alternative embodiments, the method logs the bid/offer spread at thetime the order is filled.

In alternative embodiments, the method implements corrective actionbased at least in part on the step of monitoring the outcome of thetrade.

In alternative embodiments, the method takes corrective action, wherethe corrective action includes modifying payment for the order receivedby the broker-dealer. In alternative embodiments, the corrective actionincludes modifying payment for future order flow received by thebroker-dealer. In alternative embodiments, the correction actionincludes increasing the fee for the investor that placed the orderreceived by the broker-dealer. In alternative embodiments, thecorrective action includes increasing the fee for future orderssubmitted by the investor that placed the order received by thebroker-dealer.

In alternative embodiments, the method determines conformance of theorder with a rule-set that includes at least one rule used to implementthe order execution.

There has thus been outlined, rather broadly, the more importantfeatures of the invention in order that the detailed description thereofthat follows may be better understood, and in order that the presentcontribution to the art may be better appreciated. There are, of course,additional features of the invention that will be described hereinafterand which will form the subject matter of the claims appended hereto.

In this respect, before explaining at least one embodiment of theinvention in detail, it is to be understood that the invention is notlimited in its application to the details of construction and to thearrangements of the components set forth in the following description orillustrated in the drawings. The invention is capable of otherembodiments and of being practiced and carried out in various ways.Also, it is to be understood that the phraseology and terminologyemployed herein are for the purpose of description and should not beregarded as limiting.

As such, those skilled in the art will appreciate that the conception,upon which this disclosure is based, may readily be utilized as a basisfor the designing of other structures, methods and systems for carryingout the several purposes of the present invention. It is important,therefore, that the claims be regarded as including such equivalentconstructions insofar as they do not depart from the spirit and scope ofthe present invention.

These together with other objects of the invention, along with thevarious features of novelty which characterize the invention, arepointed out with particularity in the claims annexed to and forming apart of this disclosure. For a better understanding of the invention,its operating advantages and the specific objects attained by its uses,reference should be had to the accompanying drawings and descriptivematter in which there is illustrated preferred embodiments of theinvention.

BRIEF DESCRIPTION OF THE DRAWINGS

Additional embodiments of the invention, its nature and variousadvantages, will be more apparent upon consideration of the followingdetailed description, taken in conjunction with the accompanyingdrawings, in which like reference characters refer to like partsthroughout, and in which:

FIG. 1 is a simplified illustration of one example of an order flow inthe U.S. equities market;

FIG. 2 is a simplified illustration of another example of an order flowin the U.S. equities market, in which an order placed by an investor isinternalized by a broker-dealer;

FIG. 3 is a simplified illustration of one example of an order flow inthe equities market in which a toxicity analyzer is used according toprinciples of the present invention;

FIG. 4 is a simplified illustration of one example of an order flow inthe equities market in which a toxicity analyzer is used according toprinciples of the present invention;

FIG. 5 is a simplified flow chart illustrating the steps performed inthe execution of an investor's equities order according to oneembodiment of the present invention;

FIG. 6 is a simplified illustration of one example of an order flow inthe equities market in which a toxicity analyzer is used according toprinciples of the present invention;

FIG. 7 is a simplified illustration of one example of an order flow inthe equities market in which a toxicity analyzer is used according toprinciples of the present invention;

FIG. 8 is a simplified illustration of one example of an order flow inthe equities market in which a toxicity analyzer is used according toprinciples of the present invention;

FIG. 9 is a simplified illustration of one example of an order flow inthe equities market in which a toxicity analyzer is used according toprinciples of the present invention;

FIG. 10 is a simplified illustration of one example of an order flow inthe equities market in which a toxicity analyzer is used according toprinciples of the present invention;

FIG. 11 is a simplified flow chart illustrating the steps performed inthe execution of an investor's equities order according to anotherembodiment of the present invention;

FIG. 12 is a simplified illustration of one example of an order flow inthe equities market in which a toxicity analyzer is used according toprinciples of the present invention;

FIG. 13 is a simplified illustration of one example of an order flow inthe equities market in which a toxicity analyzer is used according toprinciples of the present invention;

FIG. 14 is a simplified illustration of one example of an order flow inthe equities market in which a toxicity analyzer is used according toprinciples of the present invention;

FIG. 5 is a simplified illustration of one example of an order flow inthe equities market in which a profit analyzer is used according toprinciples of the present invention;

FIG. 16 is a simplified illustration of one example of an order flow inthe equities market in which a toxicity analyzer and a profit analyzerare used according to principles of the present invention;

FIG. 17 is a simplified illustration of another example of an order flowin the equities market in which a toxicity analyzer and a profitanalyzer are used according to principles of the present invention;

FIG. 18 is a simplified illustration of one example of an order flow inthe equities market in which a system for determining whether an ordercomplies with a rule-set is used according to the principles of thepresent invention;

FIG. 19 is a simplified illustration of one example of an order flow inthe equities market in which a system for determining whether an ordercomplies with a rule-set is used according to the principles of thepresent invention;

FIG. 20 is a simplified illustration of one example of an order flow inthe equities market in which a toxicity analyzer is used according toprinciples of the present invention;

FIG. 21 is a simplified illustration of one example of an order flow inthe equities market in which a profit analyzer is used according toprinciples of the present invention;

FIG. 22 is a simplified illustration of one example of an order flow inthe equities market in which a toxicity analyzer and a profit analyzerare used according to principles of the present invention; and

FIG. 23 is a simplified illustration of one example of an order flow inthe equities market in which a system for determining whether an ordercomplies with a rule-set is used according to the principles of thepresent invention.

DETAILED DESCRIPTION OF THE INVENTION

The following description includes many specific details. The inclusionof such details is for the purpose of illustration only and should notbe understood to limit the invention. Moreover, certain features, whichare well known in the art, are not described in detail in order to avoidcomplication of the subject matter of the present invention. Inaddition, it will be understood that features in one embodiment may becombined with features in other embodiments of the invention.

Computer implemented and/or assisted methods and systems are describedfor the detection, tracking and response to orders in an equities orderflow that are likely to be, or are in fact, “toxic” using, for example,toxicity and/or profit analyzers. In at least one embodiment of theinvention, order toxicity characteristics and/or profit analyzers areused to quantify and/or mitigate the risk inherent in serving as acounter-party to equities transactions, such as anonymous equitiestransactions and other transactions.

In many instances, a consolidating broker-dealer does not know theidentity of the investor who submitted the order to which it will serveas counter-party. Thus, a consolidating broker-dealer that acceptsequity orders (e.g., internalizes, executes and/or otherwise commits tothe execution of the orders) from an OFP may be exposed to significantfinancial risk due to, in at least one embodiment, the anonymous natureof orders within that order flow. For example, as explained above,professional traders may seek to take advantage of the consolidatingbroker dealer by trading on information affecting future price movementswhich is not available to the general investing public (or to thebroker-dealer). In such instances, these professional traders may sendtoxic (or likely toxic) orders to a potentially naïve broker-dealer thatmay consequently acquire net trading losses from serving as acounter-party for these orders.

Therefore, according to the present invention, toxicity andprofitability measurement methods and systems are provided which may beused, for example, to detect, track and/or respond to the level of toxic(or likely toxic) orders present in an equities order flow. The conceptof toxicity and the use of toxicity measurement methods and systemsaccording to the invention are described in greater detail immediatelybelow, followed by a detailed description of the use of profitabilitymeasurement methods and systems.

As explained above, when not receiving orders directly from investor 110(e.g., in the case of a full-service broker-dealer), consolidatingbroker-dealer 130 pays OFP 120 for providing a given volume of orderflow. Moreover, when consolidating broker-dealer 130 takes an incomingorder from OFP 120 and routes it to an exchange, it generally receivessome form of payment from the exchange. On the other hand, the profitfor consolidating broker-dealer 130 may be at least partially based onthe spread between bid and offer prices for the equity, for example, ifthe consolidating broker-dealer internalizes the order.

In instances where a consolidating broker-dealer 130 accepts a toxicorder, regardless of what entity ultimately fills the order, theprofitability of consolidating broker-dealer 130 is likely to suffer asa result of accepting the toxic order. For example, when an affiliatedmarket-maker or market-making firm of consolidating broker-dealer 130takes a loss on a toxic trade, it is likely that this affiliatedmarket-maker or market-making firm will seek compensation in one form oranother from consolidating broker-dealer 130.

It should be noted that, with a standard investing population, a certainlevel of toxic trades and/or trades that are suspect to be toxic may betolerated and/or is to be expected due to the random arrival of ordersin conjunction with the random movement of equity bid and offer levels.With the professional investing population (e.g., professional traders),however, the level of toxic trades is likely to be increased asprofessional investors make trading decisions based upon, for example,non-publicly available information or other information not readilyavailable to the standard trader regarding the future movement ofequities prices. Accordingly, it is particularly important to be able tolimit the financial risk associated with serving as a tradingcounter-party to an equities order flow, such as an anonymous equitiesorder flow.

While profit for consolidating broker-dealer 130 is determined generallyvia a post-execution measure (as explained below), we have determinedthat toxic orders are likely to have a set of common and/orpredetermined characteristics at the order, market, and executionparameter levels which may provide either or both of consolidatingbroker-dealer 130 and OFP 120 with some level of predictive ability,thus enabling corrective action before an order is executed. Similarly,these common and/or predetermined characteristics may be used whendeciding whether to take post order execution corrective action, forexample, based on forensic characteristics associated with toxic orders.This has the potential, in turn, to improve the profitability ofconsolidating broker-dealer 130, which may also translate into higherprofitability (e.g., higher per order payment) for OFP 120 for real-timeorder execution and/or subsequent order execution.

The invention recognizes that predetermined and/or specific orders (andensuing associated trades) have a set of distinct characteristics thatcan be used to characterize their level of toxicity and thus providebroker-dealer 130 (or OFP 120) with some level of predictive capability,as described above. The variables which can be used to characterizetoxicity can be derived from order parameters, market conditionparameters, and/or order execution parameters. For example, thefollowing order parameters can be used: the identity of the equity(e.g., symbol), the action type (e.g., buy or sell), the order type(e.g., market, limit, stop, all-or-none), the limit price (e.g., for alimit order), and the order size (e.g., the number of shares). Inaddition, the following market condition parameters can be consideredwith respect to the ordered equity: the theoretical value of the equity,the frequency of order submission, the NBBO market source, the NBBOsize, the liquidity of the equity in the market, the implied spread(NBBO), and equity-market performance correlation (e.g., beta).Moreover, the following execution parameters can be considered: the fillspread (e.g., the bid/offer spread at the time of filling the order) andthe fill price. The invention is not limited by the particularcharacteristics that are examined in this regard, and any other distinctcharacteristic may be used alone and/or in combination with any or allof the above mentioned parameters in accordance with the principles ofthe present invention.

According to at least one embodiment of the invention, some or all ofthe above and other order, market condition, and/or order executionparameters may be combined empirically to generate a “toxicity quotient”for orders placed by investor 110. For example, consolidatingbroker-dealer 130 (or another participant in the equities order flow)may generate toxicity quotients by measuring order, market condition,and/or execution parameters of various orders over time, and correlatingthese parameters with the outcome of trades (e.g., toxic trades yieldinga loss compared to normal profitable trades). Moreover, various ordercharacteristics of a received (but not yet executed) order mayoptionally be compared to previously received (and potentially executed)orders in order to determine such a toxicity quotient. It should benoted that, while consolidating broker-dealer 130 may be the generatorof a toxicity quotient, the invention is not limited in this manner. Inparticular, it is contemplated that toxicity quotients may be generated(e.g., using similar order parameters to those described above) by otherthan consolidating broker-dealer 130. In this case, according to variousalternative embodiments of the present invention, consolidatingbroker-dealer 130 would receive one or more toxicity quotientssubsequent to their generation by other entities. It should also benoted that, according to at least one embodiment, a previously generatedtoxicity quotient may be modified. For example, toxicity quotients maybe dynamically modified based on events occurring after their initialgeneration. Using these toxicity quotients (regardless of where they aregenerated), an order may be examined to determine the likelihood that itwill be toxic if executed.

As demonstrated by the various embodiments of the invention describedbelow, toxicity quotients may be useful for a number of differentparties in the equities order-flow chain. For example, consolidatingbroker-dealer 130 may use order-by-order or aggregate toxicity quotientmeasurements to characterize the quality of individual orders receivedfrom OFP 120. This information can be used, for example, to takecorrective action to improve the profitability of consolidatingbroker-dealer 130 on a per order basis and/or aggregate order basis(e.g., by rejecting potentially toxic orders), or in negotiationsconcerning payment for order flow to OFP 120 (e.g., higher payment forlower toxicity order flow). OFP 120 may use order-by-order, aggregateand/or per account toxicity quotient measurements, for example, toreject potentially toxic orders, to take corrective action againstparticular users who are submitting unacceptably high levels of ordersthat are likely to be toxic and/or to provide post order analysis ofprofitability with respect to order execution and/or future orders. Forexample, investor 110 may be charged a higher commission based on thedetermination that a submitted order is likely to be toxic (based on ananalysis of the order, market and/or execution parameters). Moreover,knowledge of an order's likelihood of toxicity would allow investor 110to reconsider an order prior to submission if the order would result ina higher than usual fee (commission).

It will be understood that, when toxicity detection and/or predictionsuch as described herein is not in place, it is possible that all orders(including normal and potentially toxic orders) sent through theequities market order flow chain will be executed. Upon execution ofnormal orders, broker-dealer 130 would likely record a trading profit(on average), while upon execution of toxic orders, a reduction intrading profit or a loss would likely result (either directly, or as aresult of having to reimburse another entity for taking a trading loss).

FIG. 3 shows an illustrative embodiment of the present invention inwhich consolidating broker-dealer 130 uses a toxicity analyzer 330 totrack received equities orders and/or to determine whether (and if so,on what terms) an order should be filled. For example, toxicity analyzer330 may be used to “screen-out” orders that fit certain criteriacharacteristic of toxic orders. In other words, for example, if an orderis determined to be eligible for execution based on its ordercharacteristics (because it is not likely to be a toxic order), it willbe executed. Because the orders received are considered “non-toxic” inthe order flow shown in FIG. 3, they are executed. It will be understoodthat, although it is shown in FIG. 3 that orders eligible for executionare sent by consolidating broker-dealer 130 to equities market 140, theinvention is not limited in this manner. For example, as explainedabove, consolidating broker-dealer 130 may choose to internalize theorder (if it has that capability) rather than sending the order toequities market 140. Moreover, it should be noted that toxicity analyzer330 comprises any standard software program or programs that can be usedto analyze the orders with respect to toxicity as described in thevarious embodiments of the present invention.

As shown in FIG. 4, in at least one embodiment, orders received andexamined by toxicity analyzer 330 that are determined to be likely toxic(based on an examination of their order parameters) are not executed(e.g., are not sent to an exchange and are not internalized).Alternatively, for example, investor 110 may be given a choice to cancelany ineligible orders, or to agree to their execution at a later time,at another market center, with another market participant, and/or for anincreased fee (commission). In addition, as shown in FIG. 4,consolidating broker-dealer 130 may optionally, upon the finding ofineligibility of one or more orders by toxicity analyzer 330, provide atoxicity report to OFP 120. As explained in greater detail below, thisreport may include, for example, necessary information to identifyinvestor 110 as an investor that submitted one or more orders that arelikely to be toxic. In turn, OFP 120 may take corrective action againstan investor 110 that is determined to have submitted one or more toxicorders (as also explained in greater detail below). It should be notedthat, generally speaking and in at least one embodiment, it would not bedesirable to take corrective action against an investor 110 who isdetermined to be a “naïve” offender. In other words, simply because aninvestor 110 submits one or more orders that are likely to be toxic (orthat in fact turn out to be toxic), it is not necessarily desirable toprovide a toxicity report and/or to take corrective action. Rather,these steps are generally intended to be taken in the case of aninvestor 110 who continuously submits orders that are in fact, or arelikely to be, toxic, and/or submits one or more toxic orders for whichthe trading loss is substantial (a “highly toxic” order). The invention,however, is not limited by the particular situations in which a toxicityreport is sent or in which corrective action is taken.

Regardless of whether incoming orders are determined by toxicityanalyzer 330 to be toxic, according to various embodiments of thepresent invention, consolidating broker-dealer 130 may still provide OFP120 a pre-negotiated, per-order level of payment for order flow.According to various other optional embodiments, such as describedbelow, the payment provided by consolidating broker-dealer 130 to OFP120 may be at least in part based on the quality (e.g., toxic versusnon-toxic) of orders received.

FIG. 5 is a simplified flow chart illustrating the steps performed inthe execution of an investor's equities order according to theembodiment of the present invention shown in FIGS. 3-4. In step 502,investor 110 submits an order (e.g., to buy or sell one or moreequities) to OFP 120. Next, in step 504, the order is sent by OFP 120 toconsolidating broker-dealer 130, at which time it is examined bytoxicity analyzer 330. If it is determined at step 506 that the ordersubmitted by investor 110 is not toxic, the order is executed at step508 (e.g., by sending the order to an exchange or internalizing theorder, and with or without, for example, a time and/or price guarantee).Otherwise, if the order is determined to be toxic at step 506, at step510, the order submitted by investor 110 is either rejected or, forexample, it is executed at a later time, at another market center, withanother market participant, and/or for an increased fee (commission).

In the embodiments of the invention shown in FIGS. 3-4, toxicityanalyzer 330 is a part of (e.g., owned by the same entity as)consolidating broker-dealer 130. The invention, however, is not limitedin this manner. For example, a stand alone toxicity analyzer may be usedaccording to the invention. In this case, the toxicity analyzer may be,for example, completely independent from, or associated with (e.g.,under the control of), consolidating broker-dealer 130. FIG. 6 shows oneexample of an equities order flow in which such a stand alone toxicityanalyzer 650 is used. As shown, non-toxic orders submitted by investor110 (and sent by OFP 120) are received by toxicity analyzer 650, and arethereafter submitted for execution by consolidating broker-dealer 130.When toxicity analyzer 650 determines that one or more received ordersare likely to be toxic, as shown in FIG. 7, the orders are not submittedto consolidating broker-dealer 130. Alternatively, as shown in FIG. 8,the orders deemed likely toxic may nonetheless be passed toconsolidating broker-dealer 130. In this case, however, based oninstructions from toxicity analyzer 650 (or from some other entity, butstill based, at least in part, on the determination by toxicity analyzer650), consolidating broker-dealer 130 will generally not execute theorder as submitted by investor 110. For example, as mentioned above, theorder may be rejected, filled at a later time, filled at another marketcenter, filled by another market participant and/or filled for a higherfee (commission). Although not indicated in FIGS. 7-8, it will beunderstood that, as described above in connection with FIG. 4, atoxicity report may be provided to OFP 120 in response to the detectionof likely toxic orders, and OFP 120 may take corrective action againstan investor 110 that is determined to have submitted one or more likelytoxic orders.

As shown in FIG. 9, according to another embodiment of the invention, atoxicity analyzer 920, which is a part of OFP 120, may be used in placeof, and/or in combination with, toxicity analyzers 330 and 650 shown inFIGS. 3-4 and 6-8, respectively, and described above. In this manner, byusing toxicity analyzer 920, it is possible to examine some or allorders being sent to OFP 120 for potential toxicity (and to potentiallycancel or modify such orders) before they are sent to consolidatingbroker-dealer 130. As shown in FIG. 9, non-toxic orders are eventuallyreceived by consolidating broker-dealer 130, and are generally executed.

As shown in FIG. 10, orders received and examined by toxicity analyzer1020 that are determined to be ineligible for execution based on theirorder characteristics are not provided to consolidating broker-dealer130. Alternatively, for example, investor 110 may be given a choice toeither cancel any ineligible orders, or, when provided the option, toagree to their execution, for example, at a later time, at anothermarket center, with another market participant and/or for an increasedfee (commission). In this case, although not shown in FIG. 10, theorders may be provided to consolidating broker-dealer 130 for executionaccording to the new terms. In addition, as shown in FIG. 10, OFP 120may take corrective action against an investor 110 that is determined tohave submitted one or more toxic orders (as also explained in greaterdetail below). According to various embodiments, regardless of whetherincoming orders are passed on to consolidating broker-dealer 130 orrejected due to suspected toxicity, consolidating broker-dealer 130 maystill provide OFP 120 a pre-negotiated per-order level of payment.According to various other embodiments, such as described below, thepayment provided by consolidating broker-dealer 130 to OFP 120 may be atleast in part based on the quality (e.g., toxic versus non-toxic) oforders received.

FIG. 11 is a simplified flow chart illustrating the steps performed inthe execution of an investor's equities order according to theembodiment of the present invention shown in FIGS. 9-10. In step 1102,investor 110 submits an order (e.g., to buy or sell one or moreequities) to OFP 120. Next, in step 1104, the order is examined bytoxicity analyzer 920. If it is determined at step 1106 that the ordersubmitted by investor 110 is not toxic, the order may be sent toconsolidating broker-dealer 130 to be executed. Otherwise, if the orderis determined to be toxic at step 1106, at step 1110, the ordersubmitted by investor 110 is either rejected or, for example, it is sentto consolidating broker-dealer 130 to be executed at a later time, atanother market center, with another market participant, and/or for anincreased fee (commission).

In the embodiments of the invention shown in FIGS. 9-10, toxicityanalyzer 920 is a part of (e.g., owned by the same entity as) OFP 120.The invention, however, is not limited in this manner. For example, astand alone toxicity analyzer situated between investor 110 and OFP 120may be used according to the invention. In this case, the toxicityanalyzer may be, for example, completely independent from, and/orassociated with (e.g., under the control of), OFP 120. FIG. 12 shows oneexample of an order flow in which such a stand alone toxicity analyzer1250 is used that is situated between investor 110 and OFP 120. Asshown, non-toxic orders submitted by investor 110 are received bytoxicity analyzer 1250, and are thereafter submitted for execution byconsolidating broker-dealer 130. When toxicity analyzer 1250 determinesthat one or more received orders are not eligible for execution (e.g.,because they are toxic), as shown in FIG. 13, the orders are notsubmitted to OFP 120. Alternatively, as shown in FIG. 14, the ordersdeemed ineligible for execution may nonetheless be passed to OFP 120. Inthis case, however, based on instructions from toxicity analyzer 1250(or from some other entity, but still based on the determination bytoxicity analyzer 1250), OFP 120 generally will not pass the order assubmitted by investor 110 to consolidating broker-dealer 130 forexecution. Rather, as mentioned above, the order may be either rejected,or, for example, filled at a later time, at another market center, withanother market participant, and/or for a higher fee (commission).Moreover, although not indicated in FIGS. 13-14, as described above inconnection with FIG. 6, OFP 120 may take corrective action against aninvestor 110 that is determined to have submitted one or more toxicorders.

The present invention also provides profitability measurement methodsand systems that may be used to eliminate, or at least reduce, thefinancial risk associated with execution of toxic orders. As explainedabove, the profit which consolidating broker-dealer 130 makes on theexecution of a given equities order may be at least partially dependenton the spread between the bid and offer quotes (e.g., when the order isinternalized by consolidating broker-dealer 130). Moreover, aspreviously noted, there may be instances when this profit (forconsolidating broker-dealer 130 and/or another participant in theequities order flow) is reduced, approaches zero, and/or becomes a loss.According to the present invention, broker-dealer profit informationcoupled with market condition information (either instantaneous oraveraged over some time period) can be used to characterize the qualityof an individual order or flow of orders. Moreover, while profit (orloss) on a trade can only be determined after a trade has been executed,and thus a profit measure could not be used to stop the execution ofunprofitable orders, it could have tremendous utility in motivatingbehaviors at the OFP or investor level by providing a parameter to drivethe setting of transaction (e.g., payment for order flow) and investorcommission fees. For example, a profit analyzer according to theinvention may be used to monitor the outcome of some or all trades thatare received by a consolidating broker-dealer and that are subsequentlyexecuted. By logging the bid/offer spread at the time of order fillingfor each equity trade executed, a running tab of profit (or loss) can bekept. Moreover, by monitoring average trading volume and average pertrade-profit over various periods of time (days, weeks, or months), anexpected level of profit can be established for various OFPs. Deviationsfrom these averages could then be used to signal the need to takecorrective action against a particular OFP or investor (e.g., to adjustpayment for order flow to the OFP).

FIG. 15 shows an order flow in which a profit analyzer 1530 is usedaccording to another embodiment of the invention. In this embodiment,optionally, execution is provided to a majority (or all) of the receivedorders from investor 110. Moreover, the fee structure with OFP 120 isbased on a measure of profitability for consolidating broker-dealer 130.By using profit analyzer 1530 to monitor all (or at least a percentageof) executed trades in which consolidating broker-dealer 130 isinvolved, it is possible for consolidating broker-dealer 130 to trackits level of profitability (e.g., in real-time, and/or over a certainperiod of time). By making the amount of payment provided to OFP 120 inexchange for order flow variable and a function of the profit ultimatelyrealized by consolidating broker-dealer 130, at least some of the riskfor loss (e.g., based on toxic trades) may be shifted to OFP 120. Thisshifting of risk in turn aligns the objectives of OFP 120 with those ofconsolidating broker-dealer 130 (e.g., lower toxicity order flow resultsin greater profit for OFP 120).

Although FIG. 15 shows profit analyzer 1530 as being a part of (e.g.,owned by the same entity as) consolidating broker-dealer 130, theinvention is not limited in this manner. For example, although notshown, a stand alone profit analyzer may be used according to otherembodiments of the invention. In this case, the profit analyzer may be,for example, completely independent from, or associated with (e.g.,under the control of), consolidating broker-dealer 130.

As shown in FIG. 16, according to another embodiment of the presentinvention, both a toxicity analyzer 1620 and profit analyzer 1530 may beused in the same order flow. In this case, as described above inconnection with FIG. 15, profit analyzer 1530 is used to track theexecution of each trade received by consolidating broker-dealer 130,monitoring the real-time and/or aggregate level of profitability.Accordingly, it is possible for the payment from consolidatingbroker-dealer 130 to OFP 120 to be variable and based on the profitrealized by the order flow received by consolidating broker-dealer 130.Moreover, using toxicity analyzer 1620 (or another toxicity analyzerwhich may be, for example, a stand alone toxicity analyzer), orderswhich are determined to be likely toxic may be canceled by OFP 120, ormodified, as described above. In addition, based on the toxic ordersreceived from investor 110 (regardless of whether they are actuallyexecuted), OFP 120 may take corrective action against investor 110. Forexample, OFP 120 may increase the transaction fees for orders placed byinvestor 110, ban investor 110 altogether from trading through OFP 120,or restrict the orders that will be accepted from investor 110 (e.g.,based on order size, symbol, etc.).

FIG. 17 shows another embodiment of the invention in which a profitanalyzer 1730 and toxicity analyzer 1732 are used in the same orderflow. As with profit analyzer 1530 of FIG. 16, profit analyzer 1730 isused to track the execution of all (or at least a percentage of) of thetrades received by consolidating broker-dealer 130, monitoring thereal-time and/or aggregate level of profitability. Accordingly, it ispossible for the payment from consolidating broker-dealer 130 to OFP 120to be variable and based on the profit realized by the order flowreceived by consolidating broker-dealer 130. Moreover, using toxicityanalyzer 1732 (or another toxicity analyzer which may be, for example, astand alone toxicity analyzer), orders which are determined to be likelytoxic may be rejected by consolidating broker-dealer 130, or modified,as described above. In addition, following the receipt of one or moreorders determined to be toxic (regardless of whether they are actuallyexecuted and found to be actually toxic), consolidating broker-dealer130 may provide a toxicity report to OFP 120. This report may includenecessary information to identify investor 110 as an investor thatsubmitted one or more likely (or actually) toxic orders. For example,this information may include the account number of the offendinginvestor (if available to consolidating broker-dealer 130), the encodedaccount number (if OFP 120 provides consolidating broker-dealer 130 withan identification code that can be used by OFP 120 to identify theunderlying account), and/or the order number (if OFP 120 keeps track ofwhich order numbers are associated with which underlying accounts). Inturn, OFP 120 may take corrective action against an investor 110 that isdetermined to have submitted one or more likely (or actually) toxicorders. As explained above, this may include, so long as otherwiseconsistent with applicable securities regulation, increasing thetransaction fees for orders placed by investor 110, banning investor 110altogether from trading through OFP 120, or restricting the orders thatwill be accepted from investor 110 (e.g., based on order size, symbol,etc.).

According to various alternate embodiments of the invention, a set ofrules (“rule-set”) may be used in conjunction with, or in place of, oneor more order toxicity analyzers such as the ones shown in FIGS. 3-4,6-10, 12-14, and 16-17 and described above. For example, as shown in theillustrative order flow of FIG. 18, it is determined by system 1850 forall and/or predetermined orders arriving from OFP 120 whether the ordercomplies with the rule-set (e.g., the size of the order is below athreshold level, the investor submitting the order is one of apre-approved list of investors, etc.). It will be understood that therule-set described above may be modified at any suitable time. Forexample, the rule-set may be modified based on past, present, orexpected future market conditions, past profit measurements, and/orother received information (e.g., from outside the equities order flow).Moreover, it should be noted that the order flow shown in FIG. 18 issubstantially the same as the order flow shown in FIG. 3, except thattoxicity analyzer 330 is replaced by system 1850.

In the embodiment shown in FIG. 18, if an order from investor 110complies with the rule-set, then the order may be executed. Otherwise,pursuant to a previous agreement with investor 110, for example, theorder may be rejected, with or without feedback to investor 110. Inother embodiments, for example, investor 110 may be given an opportunityto modify the order such that it complies with the rule-set, to accept amodified order that complies with the rule-set, or to accept the orderwith an increased fee (commission). In yet other embodiments, alsopursuant to a prior agreement with investor 110, for example, the orderplaced by investor 110 may be automatically modified (e.g., by reducingthe order size) so that it complies with the rule-set and then executed.In this case, investor 110 may be notified of the modification to theoriginal order (and/or provided other information) before or afterexecution of the modified order.

System 1850 shown in FIG. 18 may be, for example, a computer implementedsystem that analyzes various characteristics of orders originating frominvestor 110 to determine whether the order complies with the rule-set.Moreover, as shown in FIG. 18, system 1850 may be a part of, orassociated with, consolidating broker-dealer 130. The invention is notlimited in this manner.

According to another embodiment of the invention, a system 1950 as shownin FIG. 19 may be used in place of system 1850 shown in FIG. 18 anddescribed above. Similar to system 1850, system 1950 shown in FIG. 19may be used to determine for all and/or predetermined orders arrivingfrom investor 110 whether the order complies with the rule-set. If theorder complies with the rule-set, then it may be sent to consolidatingbroker-dealer 130 for execution. Otherwise, for example, it may berejected, with or without notification to investor 110 (e.g., pursuantto a prior agreement with investor 110). In other embodiments, forexample, investor 110 may be given an opportunity to modify the order,to accept a modified order that complies with the rule-set, or to acceptthe order with an increased fee (commission). Alternatively, alsopursuant to a prior agreement, for example, the order may beautomatically modified (e.g., by reducing the order size) so that itcomplies with the rule-set, and may then be automatically executed (withor without notification of the modification to investor 110).

System 1950 shown in FIG. 19 may be, for example, a computer implementedsystem that analyzes various characteristics of orders originating frominvestor 110 to determine whether the order complies with the rule-set.Moreover, as shown in FIG. 19, system 1950 may be a part of, orassociated with, OFP 120. The invention is not limited in these manners.

Often, the risk of executing a toxic trade rests with OFP 120 orconsolidating broker-dealer 130 (or an affiliate). However, there aremany times during which the risk may reside completely or at leastpartially with an exchange (or exchange participant) of equities market140 (e.g., when the profit or loss is based on the bid-offer spread). Atthese times, it may be desirable for such an exchange to incorporatecustomer analytic systems such as described above into its order routingand execution mechanisms. Accordingly, while the above description ofthe invention focuses on the use of toxicity analyzers, profitanalyzers, and/or systems for determining compliance with a rule-set byone or both of OFP 120 and consolidating broker-dealer 130, it will beunderstood that the invention is not limited in this manner.

As illustrated by FIG. 20, one or more exchanges of equities market 140may use a toxicity analyzer 2040 to track received equities ordersand/or to determine whether, and if so, on what terms, an order shouldbe filled (e.g., routed to a specialist on the exchange). When a likelytoxic order is submitted to an exchange, as determined by, e.g.,toxicity analyzer 2040, the exchange may take any of the approachesdescribed above, including canceling or rejecting the order, executingthe order at a later time, automatically altering the order, and/orallowing the investor to alter the order prior to execution. Inaddition, upon the finding of ineligibility (likely toxicity) of one ormore orders by toxicity analyzer 2040, regardless of whether the ordersare executed, the exchange can provide a toxicity report to OFP 120(either directly or through consolidating broker-dealer 130). Using thistoxicity report, as explained above, OFP 120 can take corrective actionagainst investor 110, for example, by increasing the transaction feesfor orders placed by investor 110, by banning investor 110 altogetherfrom trading through OFP 120, or restricting the orders that will beaccepted from investor 110 (e.g., based on order size, symbol, etc.). Inaddition, the exchange using toxicity analyzer 2040 can provide atoxicity report specifically intended for consolidating broker-dealer130. Using this report, for example, consolidating broker-dealer 130 maydecide to alter its order flow payments to OFP 120, thereby providingincentive for OFP 120 to provide a lower toxicity order flow. It will beunderstood that toxicity analyzer 1940 can be a part of (e.g., owned bythe same entity as) the exchange of equities market 140 that is usingit, or, for example, may be completely independent from, or associatedwith (e.g., under the control of), that exchange. The invention is notlimited in this manner.

According to the invention, as shown in FIG. 21, an exchange of equitiesmarket 140 may use profit analyzer 2140 to track profit and loss on someor all executed trades, similar to the manner in which profit analyzer1530 is used by consolidating broker-dealer according to the embodimentof the invention shown in FIG. 15. As explained above, an exchange ofequities market 140 may pay consolidating broker-dealer 130 for routingorder flow to its marketplace. According to the invention, measurementsmade by profit analyzer 2040 can be used to modify such payment based onthe toxicity level of the received order flow. In this manner, theexchange, using profit analyzer 2040, is able to induce consolidatingbroker-dealer 130 to provide a low toxicity order flow. For example,when toxic orders are executed by the exchange, the exchange (usingprofit analyzer 2040) will record a reduction in profit (or a loss). Inresponse, for example, the exchange may alter its payment toconsolidating broker-dealer 130 for that order flow and/or for futureorder flow. In turn, consolidating broker-dealer 130 may decide to alterthe level of its payment for order flow to the OFP 120 that sent the oneor more toxic orders (originating from investor 110). It will beunderstood that profit analyzer 2040 can be a part of (e.g., owned bythe same entity as) the exchange of equities market 140 that is usingit. Alternatively, for example, profit analyzer 2040 may be completelyindependent from, or associated with (e.g., under the control of), thatexchange. The invention is not limited in this manner.

According to various other embodiments of the invention, such as thatshown in FIG. 22, an exchange of equities market 140 can make use ofboth a profit analyzer 2240 and a toxicity analyzer 2142. In this case,using profit analyzer 2240, the exchange is able to, for example, trackprofit based on a received order flow and adjust payments toconsolidating broker-dealer 130 (which may then adjust payment to OFP120). In addition, using toxicity analyzer 2242, the exchange can, forexample, provide toxicity reports to OFP 120 and/or consolidatingbroker-dealer 130 as described above. In the case of a toxicity reportreceived by OFP 120, the report can be used to take corrective actionagainst investor 110 (as described above). In the case of a toxicityreport received by consolidating broker-dealer 130, for example,consolidating broker-dealer 130 can use the report to adjust payment tothe OFP 120. All suitable uses of toxicity and profit analyzersdescribed above apply in the case of an exchange using these analyzers(e.g., as shown in FIG. 22).

As shown in FIG. 23, an exchange of equities market 140 may also usesystem 2340 for determining whether an order placed by investor 110complies with a rule-set, as described above in connection with systems1850 and 1950 of FIGS. 18-19, respectively. For example, if an orderreceived by the exchange complies with the rule-set, as determined bysystem 2340, then the order may be executed by, e.g., a specialist orother market-maker on the exchange. Otherwise, as described above, theorder may be canceled or rejected (e.g., by OFP 110 or consolidatingbroker-dealer 130), or the investor 110 may be given an opportunity toeither modify the order such that it complies with the rule-set, toaccept a modified order that complies with the rule-set, or to acceptthe order with an increased fee (commission). Alternatively, for example(and as described above), an order not complying with the rule-set maybe automatically modified (e.g., by reducing the order size) so that itcomplies with the rule-set, and then executed by, e.g., a specialist onthe exchange. As with systems 1850 and 1950 described above, system 2340shown in FIG. 23 may be, for example, a computer implemented system thatanalyzes various characteristics of orders originating from investor 110to determine whether the order complies with the rule-set. Moreover,system 2340 may be, for example, either a part of, or associated with,the exchange of equities market 140 that is using it. The invention isnot limited in this manner.

The provision of the methods and systems to detect, track and respond totoxic order levels in an equities order flow described above has variousbenefits to many different constituencies in the equities trading world.For example, by providing systems to facilitate the detection of toxic(or likely toxic) orders, broker-dealers and OFPs benefit from theirability to provide execution quality enhancements, with minimal risk ofexploitation by professional traders. Moreover, they have a tool setwhich enables them to, for example, give incentives to their tradingcounterparties to provide an order flow with a reduced level oftoxicity. By extension, investors benefit as a result of the higherquality and/or more efficient trade execution which they receive fromOFPs and broker-dealers. In addition, those investors with low toxicityorder flows will also benefit from being subject to lower transactioncosts. Broker-dealers that are able to safely serve as counter-party toorder flows, such as anonymous equities order flows via the use oftoxicity detection, tracking and response systems would be able tosignificantly differentiate themselves from other broker-dealers that donot have access to such systems. This added differentiation could beused to induce partnering with order flow providers and/or to attractadditional order flow from outside a broker-dealer's current network ofOFPs.

Moreover, the toxicity analyzers, profitability analyzers, and systemsfor determining compliance with a rule-set described herein areadvantageous under current SEC and equities exchange rules, but may alsobe used in the event selected SEC or exchange rules are altered in thefuture. For example, in alternative embodiments, the invention couldprovide toxicity and profitability analyzers, and systems fordetermining compliance with a rule-set, through new market structuresand trading technologies (e.g., new order crossing mechanisms) as theyare developed and approved by the regulators.

Although the invention has been described and illustrated in theforegoing illustrative embodiments, it is understood that the presentdisclosure has been made only by way of example, and that numerouschanges in the details of implementation of the invention can be madewithout departing from the spirit and scope of the invention. Forexample, it will be understood that in various embodiments, the presentinvention will examine selected parameters of incoming orders, and willexecute some or all of the orders only to the extent that theirindividual (or combined) parameters are deemed acceptable.

Moreover, according to various embodiments of the present invention, thetoxicity analyzers, profit analyzers and/or systems for determiningcompliance with a rule-set will be capable of communicating using theprotocol or protocols by which orders in the equities order flow aretransmitted. For example, these components and systems may beconstructed such that details of orders (e.g., order parameters) beingtransmitted between various parties in the equities order flow chain maybe directly ascertainable. Accordingly, the toxicity analyzers, profitanalyzers and/or systems for determining compliance with a rule-setdescribed above may be capable of communicating with some or all of thecommonly used protocols that include, for example, Financial InformationExchange (FIX), Common Message Switch (CMS), as well as other standardor proprietary protocols. According to various other embodiments of theinvention, for example, additional components and/or systems (that arecompatible with the protocol or protocols by which orders are beingtransmitted) may be used for communicating various order details to thetoxicity analyzers, profit analyzers and/or systems for determiningcompliance with a rule-set when they are not capable of directlyascertaining order details. The invention is not limited in this manner.

The detailed description herein may be presented in terms of programprocedures executed on a computer or network of computers. Theseprocedural descriptions and representations are the means used by thoseskilled in the art to most effectively convey the substance of theirwork to others skilled in the art.

A procedure is here, and generally, conceived to be a self-consistentsequence of steps leading to a desired result. These steps are thoserequiring physical manipulations of physical quantities. Usually, thoughnot necessarily, these quantities take the form of electrical ormagnetic signals capable of being stored, transferred, combined,compared and otherwise manipulated. It proves convenient at times,principally for reasons of common usage, to refer to these signals asbits, values, elements, symbols, characters, terms, numbers, or thelike. It should be noted, however, that all of these and similar termsare to be associated with the appropriate physical quantities and aremerely convenient labels applied to these quantities.

Further, the manipulations performed are often referred to in terms,such as adding or comparing, which are commonly associated with mentaloperations performed by a human operator. No such capability of a humanoperator is necessary, or desirable in most cases, in any of theoperations described herein which form part of the present invention;the operations are machine operations. Useful machines for performingthe operation of the present invention include general purpose digitalcomputers or similar devices.

The present invention also relates to apparatus for performing theseoperations. This apparatus may be specially constructed for the requiredpurpose or it may comprise a general purpose computer as selectivelyactivated or reconfigured by a computer program stored in the computer.The procedures presented herein are not inherently related to aparticular computer or other apparatus. Various general purpose machinesmay be used with programs written in accordance with the teachingsherein, or it may prove more convenient to construct more specializedapparatus to perform the required method steps. The required structurefor a variety of these machines will appear from the descriptionprovided above.

The system according to the invention may include a general purposecomputer, or a specially programmed special purpose computer. The usermay interact with the system via, e.g., a personal computer or PDA,over, e.g., the Internet, an Intranet, etc. The system may beimplemented as a distributed computer system rather than a singlecomputer. Similarly, the communications link may be a dedicated link, amodem over a POTS line, the Internet and/or any other method ofcommunicating between computers and/or users. Moreover, the processingcould be controlled by a software program on one or more computersystems or processors, or could even be partially or wholly implementedin hardware.

Although a single computer may be used, the system according to one ormore embodiments of the invention is optionally suitably equipped with amultitude or combination of processors or storage devices. For example,the computer may be replaced by, or combined with, any suitableprocessing system operative in accordance with the concepts ofembodiments of the present invention, including sophisticatedcalculators, hand held, laptop/notebook, mini, mainframe and supercomputers, as well as processing system network combinations of thesame. Further, portions of the system may be provided in any appropriateelectronic format, including, for example, provided over a communicationline as electronic signals, provided on CD and/or DVD, provided onoptical disk memory, etc.

Any presently available or future developed computer software languageand/or hardware components can be employed in such embodiments of thepresent invention. For example, at least some of the functionalitymentioned above could be implemented using Visual Basic, C, C++ or anyassembly language appropriate in view of the processor being used. Itcould also be written in an object oriented and/or interpretiveenvironment such as Java and transported to multiple destinations tovarious users.

It is to be understood that the invention is not limited in itsapplication to the details of construction and to the arrangements ofthe components set forth in the following description or illustrated inthe drawings. The invention is capable of other embodiments and of beingpracticed and carried out in various ways. Also, it is to be understoodthat the phraseology and terminology employed herein are for the purposeof description and should not be regarded as limiting. It should also benoted that, while some embodiments described above may currently not beapproved under federal or other relevant regulations, these embodimentsare nevertheless considered to be part of the present invention.

As such, those skilled in the art will appreciate that the conception,upon which this disclosure is based, may readily be utilized as a basisfor the designing of other structures, methods and systems for carryingout the several purposes of the present invention. It is important,therefore, that the claims be regarded as including such equivalentconstructions insofar as they do not depart from the spirit and scope ofthe present invention.

The many features and advantages of the embodiments of the presentinvention are apparent from the detail specification, and thus, it isintended to cover all such features and advantages of the invention thatfall within the true spirit and scope of the invention. All suitablemodifications and equivalents maybe resorted to, falling within thescope of the invention.

1. A method of executing an equity order comprising at least one of thesequential, sequence independent and non-sequential steps of: receivingthe order by a broker-dealer including order characteristics;determining at least one toxicity quotient responsive to the ordercharacteristics; analyzing the order to determine eligibility forexecution using the at least one toxicity quotient; and if it isdetermined that the order is eligible for execution, initiatingexecution of the order responsive to the eligibility for execution asdetermined by the analyzing the order using the at least one toxicityquotient.
 2. The method of claim 1, wherein the order is for an exchangelisted equity.
 3. The method of claim 2, wherein the step of initiatingexecution of the order comprises the step of sending the order by thebroker-dealer to an exchange for execution.
 4. The method of claim 1,wherein the step of initiating execution of the order comprises the stepof internalizing the order by the broker-dealer.
 5. The method of claim1, further comprising the step of measuring at least one of order,market condition, and execution parameters of at least one order to beexecuted, and correlating the measured parameters with the outcome oftrade to determine the at least one toxicity quotient.
 6. The method ofclaim 1, wherein the step of analyzing further comprises the step ofreviewing one or more parameters of the order relating to at least oneof size of the order, frequency of order submission, identity of theequity, market source of national-best-bid-or-offer (NBBO), order sizerelative to NBBO size, liquidity of the equity, current NBBO bid-offerspread, and the equity-market performance correlation of the equity. 7.The method of claim 1, wherein the step of determining at least onetoxicity quotient responsive to the order characteristics comprises thestep of generating the at least one toxicity quotient by thebroker-dealer.
 8. The method of claim 1, further comprising the step ofreceiving the at least one toxicity quotient by the broker-dealer. 9.The method of claim 1, further comprising the step of either rejectingthe order or executing a modified version of the order based onexecution eligibility.
 10. The method of claim 9, wherein the modifiedversion of the order comprises a modified order size.
 11. The method ofclaim 1, wherein the at least one toxicity is modified following itsgeneration.
 12. The method of claim 1, further comprising the steps of:receiving the order from an order flow provider; and sending the orderfrom the order flow provider to the broker-dealer.
 13. The method ofclaim 12, further comprising the step of sending a toxicity report tothe order flow provider based at least in part on the executioneligibility determination.
 14. The method of claim 1, further comprisingthe step of placing the order by an investor.
 15. The method of claim 1,further comprising the step of placing the order by an order flowprovider.
 16. The method of claim 1, further comprising the step ofmonitoring the outcome of the trade after it has been executed.
 17. Themethod of claim 16, wherein the step of monitoring comprises the step oflogging the bid/offer spread at the time the order is filled.
 18. Themethod of claim 16, further comprising the step of implementingcorrective action based at least in part on the step of monitoring theoutcome of the trade.
 19. The method of claim 18, wherein the step oftaking corrective action comprises the step of modifying payment for theorder received by the broker-dealer.
 20. The method of claim 18, whereinthe step of taking corrective action comprises the step of modifyingpayment for future order flow received by the broker-dealer.
 21. Themethod of claim 18, wherein the step of taking corrective actioncomprises the step of increasing the fee for the investor that placedthe order received by the broker-dealer.
 22. The method of claim 18,wherein the step of taking corrective action comprises the step ofincreasing the fee for future orders submitted by the investor thatplaced the order received by the broker-dealer.
 23. The method of claim1, further comprising the step of determining compliance of the orderresponsive to a rule-set providing at least one rule used to implementthe order execution.
 24. A method of executing an equity ordercomprising at least one of the sequential, sequence independent andnon-sequential steps of: receiving the order by a broker-dealer;initiating execution of the order by the broker-dealer; monitoring theoutcome of the trade when the order is executed; and if it is determinedthat the completed trade is toxic, implementing a corrective actionbased at least in part on the step of monitoring the outcome of thetrade.
 25. The method of claim 24, wherein the step of initiatingexecution of the order comprises the step of sending the order by thebroker-dealer to an exchange for execution.
 26. The method of claim 24,wherein the step of initiating execution of the order comprises the stepof internalizing the order by the broker-dealer.
 27. A method ofexecuting an equity order comprising at least one of the sequential,sequence independent and non-sequential steps of: receiving the order bya broker-dealer; determining compliance of the order with a rule-set,wherein the rule-set is based at least in part on the measuring of atleast one of order, market condition, and execution parameters of atleast one order to be executed and correlating the measured parameterswith the outcome of the trade; and if it is determined that the ordercomplies with the rule-set, initiating execution of the order by thebroker-dealer.
 28. The method of claim 27, wherein the step ofinitiating execution of the order comprises the step of sending theorder by the broker-dealer to an exchange for execution.
 29. The methodof claim 27, wherein the step of initiating execution of the ordercomprises the step of internalizing the order by the broker-dealer. 30.The method of claim 27, further comprising the step of monitoring theoutcome of the trade after it has been executed.
 31. The method of claim30, further comprising the step of modifying the rule-set based on thestep of monitoring the outcome of the trade.
 32. The method of claim 27,further comprising modifying the rule-set based on market conditions.33. The method of claim 27, further comprising the step of rejecting theorder based on the compliance determination.
 34. The method of claim 27,further comprising the step of executing a modified version of the orderbased on the compliance determination.
 35. The method of claim 34,wherein the modified version of the order comprises a modified ordersize.
 36. The method of claim 27, wherein the rule-set comprises atleast one rule used to implement the execution of the order.
 37. Amethod of executing an equity order comprising at least one of thesequential, sequence independent and non-sequential steps of: receivingthe order by a broker-dealer including order characteristics;determining at least one toxicity quotient responsive to the ordercharacteristics; analyzing the order to determine eligibility forexecution using the at least one toxicity quotient; if it is determinedthat the order is eligible for execution, initiating execution of theorder responsive to the eligibility for execution as determined by theanalyzing the order using the at least one toxicity quotient; monitoringthe outcome of the trade when the order is executed; and if it isdetermined that the completed trade is toxic, implementing a correctiveaction based at least in part on the step of monitoring the outcome ofthe trade.
 38. A computer system executing an equity order, comprising:means for receiving the order by a broker-dealer including ordercharacteristics; means for determining at least one toxicity quotientresponsive to the order characteristics; means for analyzing the orderto determine eligibility for execution using the at least one toxicityquotient; and means for initiating execution of the order, if it isdetermined that the order is eligible for execution, responsive to theeligibility for execution as determined by the analyzing the order usingthe at least one toxicity quotient.
 39. A computer system executing anequity order, comprising: an input device receiving the order by abroker-dealer including order characteristics; a processor determiningat least one toxicity quotient responsive to the order characteristics;an order analyzer analyzing the order to determine eligibility forexecution using the at least one toxicity quotient; and an ordertransmitter initiating execution of the order, if it is determined thatthe order is eligible for execution, responsive to the eligibility forexecution as determined by the analyzing the order using the at leastone toxicity quotient.
 40. The computer system of claim 39, wherein thecomputer system measures at least one of order, market condition, andexecution parameters of at least one order to be executed, andcorrelates the measured parameters with the outcome of trade todetermine the at least one toxicity quotient.
 41. The computer system ofclaim 40, wherein the order analyzer reviews one or more parameters ofthe order relating to at least one of size of the order, frequency oforder submission, identity of the equity, market source ofnational-best-bid-or-offer (NBBO), order size relative to NBBO size,liquidity of the equity, current NBBO bid-offer spread, and theequity-market performance correlation of the equity.
 42. The computersystem of claim 41, wherein the processor determining at least onetoxicity quotient responsive to the order characteristics comprisesgenerating the at least one toxicity quotient by the broker-dealer. 43.The computer system of claim 39, further comprising the step of eitherrejecting the order or executing a modified version of the order basedon execution eligibility.
 44. The computer system of claim 43, whereinthe modified version of the order comprises a modified order size. 45.The computer system of claim 39, wherein the computer system performscorrective action comprising at least one of: modifying payment for theorder received by the broker-dealer, modifying payment for future orderflow received by the broker-dealer, increasing the fee for the investorthat placed the order received by the broker-dealer, and increasing thefee for future orders submitted by the investor that placed the orderreceived by the broker-dealer.
 46. A computer system executing an equityorder, comprising: means for receiving the order by a broker-dealer;means for initiating execution of the order by the broker-dealer; meansfor monitoring the outcome of the trade when the order is executed; andmeans for implementing a corrective action, if it is determined that thecompleted trade is toxic, based at least in part on the step ofmonitoring the outcome of the trade.